Institute for International Political Economy Berlin
Inflation and hyperinflation in Venezuela (1970s-2016) – a post-Keynesian interpretation
Authors: Marta Kulesza
Working Paper, No. 93/2017
Editors: Sigrid Betzelt Trevor Evans Eckhard Hein Hansjörg Herr Birgit Mahnkopf Christina Teipen Achim Truger Markus Wissen
Inflation and hyperinflation in Venezuela (1970s-2016) – a post-Keynesian interpretation*
Marta Kulesza
Abstract This paper aims to explain the causes of rapidly increasing prices in Venezuela and establish whether the current episode can be considered to be of hyperinflationary nature from the post-Keynesian theoretical approach. The chosen approach highlights the role of distributive conflict, indexation mechanism, balance of payments constraint, devaluation expectations and gradual rejection of national currency in favour of foreign currency. We argue that the root cause of the precarious economic situation in Venezuela lies in the long term failure to implement structural changes, ensuring industrial diversification and lessening the dependency on oil exports. The symptoms of the Dutch disease are observed in the prolonged currency overvaluation during the high oil revenue periods. In the face of a growing external constraint, the authorities introduce severe foreign currency rationing. This in turn ignites inflation due to external bottlenecks since many sectors face supply constraints as they depend on imports of inputs of production. This leads to a regressive distribution of income, which contributes to the growing distributive conflict and fuels inflation further, as workers oppose to the lowering of real wages. Moreover, the currency rationing puts pressure on the black market for exchange as the devaluation expectations increase, leading to a parallel market devaluation-inflation spiral, which threatens to turn into hyperinflation. Nevertheless, we argue that hyperinflation, according to the proposed post-Keynesian framework (the flight to foreign currency), does not materialise despite skyrocketing prices because of the particular institutional setting – the exchange controls, which have been in place since 2003, prevent full currency substitution.
Keywords: hyperinflation, foreign exchange, distributive conflict, expectations, Dutch disease,
Venezuela
JEL Codes: E12, E31, O54
Contact:
Marta Kulesza
Email: [email protected]
Acknowledgements: I would like to thank Jonathan Marie for giving me the idea to work on this topic and for his continuous support throughout the process of writing this paper. I am also grateful to Eckhard Hein for very helpful comments and suggestions. All remaining errors are of course mine.
1
1.IntroductionIn the present paper we aim to explain the reasons behind the current episode of rapidly
increasing prices in Venezuela and establish whether it can be considered to be of
hyperinflationary nature. The analysis is done within the post-Keynesian framework of
hyperinflation developed by Marie (2014) around the case of Argentinian hyperinflation of
1989. This theoretical framework was chosen because certain commonalities, such as the
importance of primary sector exports, a tendency to currency overvaluation and a negative
experience with IMF reforms, can be found between the two Latin American economies. In
order to determine the nature of accelerating inflation, the recent developments in the
Venezuelan economy, including economic, social and political circumstances, are analysed,
highlighting the role of distributive conflict, balance of payments constraint, expectations and
flight from domestic currency to foreign currency, as proposed in the theoretical framework.
This research is considered important, firstly, because the phenomenon of hyperinflation has
not been studied extensively within the post-Keynesians tradition. Although the episodes of
hyperinflation are rare and short-lived, the mechanism behind their occurrence should be
well-understood because it reveals the nature of money – the existence of a currency is based
on the confidence in it, and because of its considerable consequences for the economy, such
as the loss of sovereign monetary policy or adverse real effects. Secondly, although the
recurring periods of high inflation since the late 1970s in Venezuela have been researched by
some, the current situation, which appears to be of hyperinflationary nature, has not been
studied yet within the post-Keynesian framework. Therefore, in this paper, we try to
contribute to a better understanding of the developments leading to high inflation (and
eventual hyperinflation) in general, and in Venezuela in particular1.
We find that the current high inflationary environment is a result of the balance of payments
problems, which can predominantly be explained by the years of real exchange rate
overvaluation (the Dutch disease) and low private investment, as they led to a tightening of
the balance of payments constraint. In the face of growing external constraint, foreign
currency rationing was introduced, leading to shortages, output contraction and growing
pressure on the parallel exchange market. As a result, the devaluation expectations
augmented, causing the parallel market devaluation-inflation spiral, which threatens to turn
into hyperinflation as the loss of confidence in the national currency is observed.
1 In case of Venezuela we argue that hyperinflation, according to the proposed post-Keynesian framework does not materialise despite skyrocketing prices because the exchange controls prevent full currency substitution.
2
The paper is structured as follows: section 2 provides the definition of hyperinflation in the
post-Keynesian tradition and presents the theoretical framework, which is applied in the
empirical part. In section 3, we analyse the macroeconomic trajectory of the Venezuelan
economy since the 1970s and focus in greater detail on the developments since 1999 until the
beginning of 2017. Section 4 provides an assessment of our case study against the proposed
theoretical framework and section 5 concludes.
2.Theoreticalframework:post-KeynesiantheoryofhyperinflationThe phenomenon of hyperinflation in the orthodox literature is defined as a period of very
rapid inflation. Although the threshold is arbitrary, the most common criterion used by
mainstream economists refers to the value proposed by Cagan (1956), where he defines
hyperinflation as a monthly inflation exceeding 50 percent. The definition of hyperinflation in
the post-Keynesian perspective, on the other hand, focuses on its qualitative characteristics
and not merely on the quantitative criteria proposed by the orthodox school.
The seminal work on hyperinflation in the post-Keynesian tradition for a closed economy was
done by Kalecki (1962, p. 275), where he defined hyperinflation as “a very rapid rise in prices
and a general tendency to convert money into goods”. In this framework, the role of inflation
expectations plays a crucial role as the hoarding of goods and the flight from money is
explained by the anticipation of continuous and rapid increases in prices. In turn, the velocity
of money depends on the anticipated rate of inflation, which is based on the past inflation
rates. Thus, as agents expect inflation to accelerate, they will try to dispose of their money,
which accelerates the speed of circulation of money and triggers galloping inflation.
Inspired by Kalecki’s work, Charles and Marie (2016, p.1) provide the following definition of
hyperinflation in an open economy: “a very rapid rise in prices and a general tendency to
convert units of domestic currency into foreign currency”. It is crucial to understand that the
phenomenon of hyperinflation in the adopted post-Keynesian framework does not mean high
or very high inflation, but is rather associated with another important indicator: the loss of the
central bank’s ability to conduct monetary policy. Thus, the crucial criterion used to
determine whether hyperinflation takes place is the gradual rejection of national currency and
the dollarisation of the economy, where another country’s currency is used in exchange for or
in addition to the national currency.2 The reason behind the substitution of national currency
2 On the other hand, not all dollarised economies struggle with hyperinflation.
3
with foreign currency in the high inflation environment can be explained by liquidity
preference, which is a preference for holding highly liquid assets whose values are stable
(Charles and Marie, 2016). If the domestic currency’s value is not stable as a result of high
domestic inflation or depreciation, foreign currency can better meet the liquidity preference.
The process of currency substitution first begins when savings start being held in a foreign
currency. Subsequently, the use of the dollar (or another foreign currency) as a unit of account
is observed, which is followed by an increased tendency to make payments in a foreign
currency. The loss of confidence in the national currency and its rejection can be observed
quantitatively in the fall of the real value of the monetary base, as the ratio M/P falls (M refers
to monetary base and P to the level of prices), which according to Orléan (2007) is an
important characteristic of every hyperinflationary episode. During hyperinflation, as the
prices increase faster than the money supply, the real value of the total currency in circulation
desired by the economic actors falls, revealing the loss of confidence in the national currency.
In addition to divergent definitions of hyperinflation, post-Keynesian authors propose a
theoretical framework which explains the mechanism behind the emergence of hyperinflation.
According to the orthodox theory, hyperinflation, like inflation, is an excess demand
phenomenon caused by the excessive money supply, which is exogenously controlled by the
central bank (Cagan, 1956). This view corresponds to the quantity theory of money and it
maintains that the excess money supply is a result of government’s irresponsible fiscal
policies (government issues large amounts of money to pay for its fiscal expenditure, which in
turn causes inflation). This view is opposed by post-Keynesians, who believe that money is
endogenous and thus reject the idea that inflation is caused by the excess supply of money
(Lavoie, 2014, Chapter 8). Instead, as we explain below, in the post-Keynesian framework,
inflation is a result of a conflict over the distribution of income.
2.1TheroleofdistributiveconflictBefore discussing the role of distributive conflict in the inflation generating process, pricing
theory has to be briefly explained. While neoclassical pricing theory is based on the equality
of marginal cost and marginal revenue and the notion that firms are price takers, post-
Keynesians argue that firms are in fact price makers in that they set prices based on their
costs, to which they add a mark-up (Lavoie, 2014, Chapter 3). Since the wage bill forms the
biggest part of capitalists’ costs, the variation in wages will have an important impact on price
changes. However, this does not imply that wages by themselves determine prices. It is a
conflict over distribution of income between labour and non-labour constituents of the firm
4
that will trigger inflation (Lavoie, 2014, Chapter 8). Inflation will arise when workers increase
nominal wages and firms increase prices in order to achieve their respective target income
shares (Blecker, 2011).
The rate of inflation will then depend on the relative bargaining power of labour and the
market power of firms and the discrepancy between their respective wage targets, known as
the “aspiration gap” (Lavoie, 2014, p.549). Workers’ ability to increase their wages will be
positively correlated with their bargaining power, which is in turn determined by formal or
informal institutional settings that reduce the conflict over income (Setterfield, 2007),
including the level of unemployment (Rowthorn, 1977), and presence and strength of trade
unions (Susjan and Lah, 1997). If workers’ bargaining power increases, they will increase
their wage targets, which impacts the “aspiration gap”. Firms’ market power, on the other
hand, and thus their ability to lower their wage targets (or increase mark-up targets), is
influenced by the presence of oligopolistic markets, changes in overhead costs (mark-up being
elastic to different overhead costs, including gross profit claims), and the rate of capacity
utilisation (if capital utilisation is low, firms tend to increase output if effective demand
increases, not prices). Another important cost that can affect firms’ mark-up is the financial
cost or the interest rate. If the interest rate increases, firms may try to pass on the higher cost
of financing their borrowing by increasing their prices (Charles and Marie, 2017). Apart from
bargaining powers, wage and price setting behaviour of workers and firms will also be
impacted by the changes in exchange rates. The phenomenon of exchange rate pass-through
measures the effect of changes in exchange rate on import prices and hence domestic inflation
(Lavoie, 2014, Chapter 7). Depreciation of domestic currency will usually lead to a higher
cost of imported consumer goods, which reduces workers purchasing power, inducing them to
demand higher nominal wages; it also increases the cost of imported materials and semi-
finished products used in domestic production, prompting firms to raise prices, in order to
recover profitability (Blecker, 2011).
2.2IndexationmechanismIf inflation caused by a distributive conflict is high and volatile, agents will develop wage
indexation mechanisms in order to protect their real incomes (Frenkel, 1979). The role of
indexation as an inflation propagation mechanism was pointed out by many neo-structuralists
who studied institutional mechanisms that maintained high inflation rates in Latin America in
the 1970s/80s (Câmara, and Vernengo, 2001). As argued, for example, by Carvalho (1993),
indexation practices not only maintain the current level of inflation, but can also contribute to
5
its acceleration. If expectations regarding future inflation change because agents anticipate an
acceleration in inflation, the “inflation regime” based on indexation breaks down because the
expectations of rising prices are reflected in the present level of prices. As prices increase, the
current income levels fall below the acceptable level (lags in adjustments cause real incomes
to fall) and agents will react by demanding higher compensation. As a result, the current
system of indexed contracts can become disrupted, leading firms to anticipate increases in
prices and change the way their costs and mark-ups are calculated, thus accelerating the
current inflation further. Thus, an inflation regime characterised by indexation cannot be
sustained because ultimately it does not solve the distributional conflict, but merely
institutionalises it until an external shock hits the economy and breaks down the regime.
Although indexation mechanisms are important propagators of inflation, they may not be a
sufficient condition for the development of hyperinflationary dynamics (Charles and Marie,
2016).
2.3Balanceofpayments,externalindebtednessandexpectationsIn addition to distributive conflict and indexation mechanism, the effect of balance of
payments dynamics, external indebtedness and exchange rate expectations have to be
considered, as these aspects are especially relevant to the emergence of hyperinflation.
According to Câmara and Vernengo (2001), balance of payment problems, which in Latin
America had their source in the structural dependency on capital imports and a shortage of
foreign reserves, led to a depreciation in the domestic currency and hence are an important
part of the inflationary dynamics (the already mentioned exchange rate pass-through
mechanism). Accordingly, any shock to the terms of trade could trigger an inflationary
process, which would then be propagated by distributional conflict and indexation
mechanisms.
Thus, in the structuralist approach, the open economy issues play a central role and inflation is
considered to have its origin in external pressures. Primary-exporting countries tend to
experience “external bottlenecks”, which appear when “a country lacks the foreign exchange
required to maintain its productive capacity fully employed” (Diamand, 1978, p.20). In other
words, the external bottleneck appears when a country, whose productive activity depends on
importing an essential input of production, faces insufficient foreign currency to import such
inputs. In that case, the balance of payments and the supply side can become binding
constraints.
6
Finally, firms’ expectations regarding the future nominal exchange rate are crucial for the
development of hyperinflation. As mentioned by Frankel (1979), pricing decisions of firms do
not depend only on their costs, but also on the level of uncertainty, information and perceived
future risks. Therefore, if the economy is indebted in a foreign currency and has a current
account deficit, agents can develop anticipations of devaluation (if the exchange rates are
fixed) or depreciation because it would enable the economy to improve its competitiveness
and diminish its trade deficit (Marie, 2014). Such devaluation will have inflationary
consequences because it will raise import prices and the value of external debt, which will in
turn induce firms to increase their prices in order to protect their mark-ups. Thus, firms which
anticipate devaluation can increase their prices today and consequently incite inflation.
Additionally, the anticipation of devaluation can trigger a run on the reserves of foreign
currency where agents try to replace as quickly as possible the domestic currency with a
stable foreign currency (Marie, 2014). As a result, the domestic currency can be rejected in
favour of a foreign currency. This triggers more devaluation followed by reinforced inflation
and the economy enters a vicious circle of inflation and devaluation. The rejection of the use
of domestic currency is the crucial component of the post-Keynesian theoretical approach to
hyperinflation (Marie, 2014).
3.Venezuela–casestudyIn order to understand the most recent developments in the Venezuela (discussed in sections
3.4-3.6), certain structural features of the economy (3.1) as well as the economic and political
events (including the development of the inflation regime) prior to Chavez’s ascendency to
power have to be discussed (3.2 and 3.3).
3.1Theroleofoil,DutchdiseaseandcollapseinprivateinvestmentThe defining feature of the Venezuelan economy is its heavy reliance on oil rents, which has
shaped its economic and social policies and influenced considerably most of the
macroeconomic outcomes in the country during the past decades. The rentier nature of the
Venezuelan economy means that its development and growth came to depend on volatile
economic activity (oil rents), which is subject to external factors that are beyond its control,
making the whole economy vulnerable (Palma, 2011).
The discovery of oil in the early 20th century enabled Venezuela to experience its golden
years between the 1920s and the 1970s (Hausmann and Rodriguez, 2014). However, oil
revenues started to fall in the late 1970s, which reduced considerably the sources of export
7
and fiscal revenues.3 A reduction in oil production translated into a fall in the share of oil in
GDP, which fell from an average of over 40 percent between 1965 and 1974 to 20 percent
between 1985 and 1994, before increasing again to over 25 percent between 1995 and 2002
(Manzano, 2014). The reduction in the importance of oil was not, however, replaced by other
thriving export industries. The lack of alternative export sectors (non-oil exports accounted
for 7 percent of total exports in 1981) and lack of capacity to develop new export industries in
response to a fall in oil revenues meant that Venezuela was incapable to recover from the
adverse oil shock (Hausmann and Rodriguez, 2014). Thus, following 50 years of rapid
economic expansion, the Venezuelan economy entered a long period of economic decline
with per capita GDP falling by a cumulative 18.6 percent between 1978 and 2001 (Hausmann
and Rodriguez, 2014).
We will argue that the main explanation behind such a dramatic shift in economic
development is the phenomenon of the “resource curse” or “Dutch disease”, which postulates
that abundant natural resources can harm the prospects of economic development. According
to Bresser-Pereira (2012), the Dutch disease is responsible for the chronic overvaluation of
the resource-abundant country’s exchange rate, which prevents structural change (country’s
industrial diversification) or can lead to premature deindustrialisation, harming the prospects
of stable and sustainable economic development. The exchange rate has a tendency to
overvaluation because resource-abundant countries can export their commodities, which are
not reproducible by labour, at a more appreciated exchange rate (“current account equilibrium
level”) compared to the exchange rate that would result from exporting manufactured goods,
which compete in international markets (“industrial equilibrium level”) (Bresser-Pereira et al.,
2014).
It can be observed that since the 1970s, Venezuela has been struggling with many symptoms
of the Dutch disease. The overreliance on oil exports and incapacity to develop other export
sectors and move resources to alternative industries is put forward by Hausmann and
Rodriguez (2014) as one of the main factors explaining the collapse in economic growth
following the late 1970s crisis. Another important factor explaining the dramatic drop in GDP
growth since the 1970s is a large fall in productivity, which occurred in the same period.
Puente et al. (2010) point out that the currency appreciation and protective measures such as
3 The fall in oil revenues was due to both lower prices (since the early 1980s) and declining oil production. According to Manzano (2014), the oil production was reduced as a result of a misguided belief formed in the 1970s that oil reserves were near exhaustion and thus limits on extraction were introduced.
8
trade barriers, unconditional subsidies, tax exemptions and price controls in certain non-
tradable sectors led to a transfer of resources and labour from tradable and higher productivity
sectors to non-tradable and lower productivity sectors. This in turn contributed to a large fall
in total factor productivity between 1970 and 1983 (it fell by 40 percent) and labour
productivity between 1974 and 1988, which fell by over 30 percent. Such a collapse in
productivity levels had negative long-term effects on the productive capacity of Venezuela
and its long-term growth.
The fall in productivity can also be explained by the collapse of private investment since the
end of the 1970s (Figure 1). According to Gutiérrez and Labarca (2003), over-accumulation
of capital led to declining profitability and thus discouraged investment. While the over-
accumulation argument can have some merit in explaining the very rapid increase in private
investment from the early 1970s and its consequent collapse in the late 1970s, it cannot
explain the very low private investment levels that followed in the 1980s, 1990s and early
2000s. We will argue below that the low level of investment persisted mainly due to the
overvalued real exchange rate – a consequence of the Dutch disease.
Figure 1: Private investment as a share of GDP (%), 1950-2001
Source: Gutiérrez and Labarca (2003, p.7)
Given the importance of imports of intermediate inputs and raw materials for domestic
production in Venezuela (Vera, 2017), a growth constraint based on foreign currency or
external bottlenecks can arise. Consequently, Venezuela’s economic growth could become
limited by the balance of payments (BOP) performance: as the primary sector surplus falls,
the current account deficit emerges, followed by a currency devaluation and usually a deep
9
recession. According to Thirlwall’s law (Thirlwall, 1979), the maximum growth that the
BOP-constrained countries can attain will positively depend on the income elasticity of
demand for exports by foreign countries and the (exogenous) world demand growth rate, and
negatively on the income elasticity of demand for imports. Bértola and Ocampo’s (2012, p.
29) estimations for Venezuela show that while the income elasticity of demand for exports
was higher than the income elasticity of demand for imports during different periods between
1870 and 1980, the 1980 to 2008 period was characterised by a large increase in the import
elasticity, which meant that the Venezuelan economy became increasingly dependent on
imports.
This dramatic deterioration in elasticities can be explained endogenously by considering the
impact of the real exchange rate. As pointed out by Bresser-Pereira et al. (2014, p.7), chronic
overvaluation of the exchange rate affects the productive structure of the economy by
“inducing a perverse specialisation process in production of goods intense in natural resources
and causing low growth due to de-industrialization”. As we have already mentioned above,
the currency appreciation in Venezuela contributed to the transfer of labour and resources to
low productivity, non-tradable, sectors. In addition, a persistent real appreciation of the
bolivar had a negative effect on private investment, as it reduced the competitiveness of
Venezuelan products and negatively affected the firms’ profit margins. Thus, the currency
overvaluation can partly explain the falling rates of private investment since the 1980s (Figure
1) and premature deindustrialisation since the mid-1980s (Vera, 2011), which in turn
impacted the income elasticities (income elasticity of demand for exports fell, while income
elasticity of demand for imports increased). In this context, the continuous currency
appreciation4 (Figure 2) can explain the observed worsening of income elasticities in
Venezuela since the 1980s.
4 No data was available for the prior 1990 period, however Palma (2008, 2011) reported that since the late 1970s the Venezuelan authorities have been struggling with excessively appreciating domestic currency as the regime of moderate inflation started in the mid-1970s and the exchange rate was kept fixed.
10
Figure 2: Real exchange rate, 1990-2013, 2005=100
Source: ECLAC (2016)
The chronic currency overvaluation, as defined by Bresser-Pereira et al. (2014), thus
negatively affected the productive structure of the Venezuelan economy and led to the
tightening of the BOP constraint. The loss of competitiveness in non-oil sectors translated into
an increasing dependence on imports, especially of inputs of production, which in turn has
made local production dependent on the economy’s capacity to import, which is constrained
by the availability of international reserves. Thus, the economy’s performance has become
constrained by external bottlenecks, which arise every time export revenues fall or import
costs increase.
3.2Risingcostsofproduction,exchangeratepolicyanddistributiveconflictAfter decades of price stability until the mid-1970s – a sign of Venezuela’s ability to contain
and regulate distributive and social conflict (Di John, 2005), the economy started
experiencing rising rates of inflation (Table 1) following the oil boom of the 1970s.
Table 1: Average inflation rates, 1950-1999
Period Average inflation rate (%)
Standard deviation of average inflation rate
1950-1959 1.3 1.9 1960-1969 1.4 1.1 1970-1979 6 3.2 1980-1989 19.4 16.2 1990-1999 47.4 22
Source: Based on Guerra (2002, p. 16), author’s presentation
020406080
100120140160180
1990
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012
2013
11
The oil shocks of 1973 and 1979 had particular consequences for the Venezuelan economy.
On the one hand, the oil windfall allowed for a rapid demand growth, which, however, had to
be accommodated by an increase in imports given that many sectors in the Venezuelan
economy faced supply constraints (Vera, 2016). On the other hand, higher energy prices
following the oil shocks meant that the prices of most of the Venezuelan suppliers increased
considerably, thus leading to higher costs of imported inputs of production for Venezuelan
firms (Ortiz, 1987). In addition, Venezuelan firms faced higher labour costs following a
number of pro-labour legal reforms that were introduced in 1974, such as the establishment of
national minimum salary and a general increase in wages, up to 25 percent for the lowest
salaries (Portillo, 2004). Moreover, the average nominal wage growth between 1973 and 1980
was well above the growth in labour productivity (Ortiz, 1987), which also contributed to
rising inflation.
Thus, growing costs of production in the form of higher wages and higher input costs since
1974, and since 1979, in combination with the higher costs of financing (following the
restrictive monetary policy), induced firms to raise prices in order to protect their profit
margins. In addition, in August 1979 there was a partial abandonment of price controls
(Portillo, 2004), which also partly contributed to an increase in inflation rates from 9.2 percent
in 1979 to 20.1 percent in 1980. The 1974 pro-labour market policies and very low
unemployment rate (in 1978 it was only 4.3 percent) strengthened the bargaining power of
labour. Thus, when firms increased their prices, workers reacted by demanding higher
nominal wages in order to preserve their purchasing power, which in turn resulted in moderate
inflation rates during the 1970s that were unknown in previous decades (Table 1).
Nevertheless, the increases in inflation rates in the 1970s were minor compared to the
acceleration that took place in the 1980s and 1990s following the changes in exchange rate
policy and resulting distributive conflict. The exhaustion of the accumulation model based on
oil revenues became increasingly evident in the 1980s (Lander, 1996), and had an important
effect on price dynamics. The crisis in Venezuela that broke out in February 1983 was
characterised by declining terms of trade (due to a fall in oil prices) and a massive increase in
capital outflows (a result of growing expectations of devaluation). In addition, the outbreak of
the 1980s Latin American debt crisis contributed to the development of pessimistic
expectations regarding Venezuela’s ability to repay its external debt and forced the
government to devalue the bolivar (for the first time since 1973) and introduce exchange
12
controls with multiple exchange rates that would remain in place until 1989 (Kelly and Palma,
2004).
Figure 3: Yearly average inflation rates (%), 1980-1998
Source: IMF (2016)
The introduction of exchange controls and devaluation in 1983 had an important impact on
the distributive conflict. On the one hand, it increased the cost of imported materials and
intermediate goods for firms. On the other hand, the cost of imported consumer goods also
increased thus reducing the purchasing power of workers. The fall in firms’ profitability was
not, however, counteracted by an increase in prices (in fact inflation slowed down in 1983 and
increased somewhat in 1984, stabilising thereafter, Figure 3) as firms were able to reduce
workers’ wages in order to preserve their profit margins. The subsequent severe recession and
growing unemployment reduced significantly the bargaining power of labour. As a result, the
wage share in national income fell from 50.2 percent in 1983 to 39.8 percent in 1984 (Figure
4).
Although the economy recovered already in 1984, the 1986 oil price collapse worsened
significantly Venezuela’s external position. The terms of trade dropped considerably, leading
to a large current account balance decline from a surplus of $3.3 billion to a deficit of over $2
billion. The authorities reacted by carrying out almost a 50 percent devaluation in December
of 1986 (Palma, 2011), which led to a renewal of the distributive conflict and an increase in
inflation rates – firms’ market power remained high, as the economy grew at an average rate
of 5.8 percent between 1986-1988, and workers’ could demand higher wages as the
0
20
40
60
80
100
120
1980
1981
1982
1983
1984
1985
1986
1987
1988
1989
1990
1991
1992
1993
1994
1995
1996
1997
1998
13
unemployment rate was falling since 1985. As a result, the inflation rate increased from 11.5
percent in 1986 to almost 30 percent in 1988 (Figure 3).
Figure 4: Percentage share of wages in GDP (%), 1982-1992
Source: Based on Lander (2006, p. 135), author’s presentation
3.3Theneoliberaladjustment,bankingcrisisandchangesinexchangeratepolicyWhile Venezuela was able to avoid the IMF intervention during the 1983 crisis, the growing
macroeconomic disequilibria in the late 1980s, prioritisation of external debt repayment5 and
growing private capital flight forced the country to finally make an adjustment in 1989
(Lander, 1996).The IMF adjustment programme in Venezuela was similar to those adopted in
other Latin American countries as it aimed to re-establish macroeconomic equilibria by
restricting public expenditure, eliminating price controls, liberalising trade and introducing a
single floating exchange rate (Lander, 1996). As a result, in March 1989 the exchange
controls were abolished and a unique floating rate equal to the free market rate of 40 bolivars
(Bs) per US dollar was introduced, which implied another large devaluation (previously
controlled rates were equal to 14.5 and 7.5 Bs/$) (Palma, 2008). Such a large exchange rate
adjustment, combined with the elimination of subsidies and price controls, increases in prices
of public services and goods, rises in nominal wages and growing costs of investment
financing as the interest rates increased, had a significant impact on prices, with the inflation
rate rising to 84 percent in 1989 (Palma, 2008).
5 Unlike many Latin American countries, Venezuela did not default on its external debt during the 1980s debt crisis.
20
25
30
35
40
45
50
55
1982
1983
1984
1985
1986
1987
1988
1989
1990
1991
1992
14
The results of the adjustment were disastrous and led to a reduction in real wages (the wage
share in total income fell from 41.4 per cent in 1988 to 33.4 per cent in 1990), higher income
concentration (the Gini coefficient increased from 0.45 in 1989 to 0.48 in 1995), dramatic fall
in private investment (Figure 1) and deterioration in living conditions. In addition, instead of
reducing oil dependency, Venezuela saw the oil’s share of total exports increase further
(Lander, 1996). In this context, Vera (2009) points out that starting in the late 1980s the
Venezuelan economy, traditionally heavily protected and regulated, has been experiencing
premature deindustrialisation following the orthodox macroeconomic adjustment and markets
liberalisation of 1989 (manufacturing employment and the share of manufacturing in GDP
reached their peaks in 1988 and have been falling ever since). Although the GDP growth
recovered between 1990 and 1992, the political unrest, including two unsuccessful coup
attempts in 1992 and the impeachment of president Pérez in 1993, prevented stabilisation and
weakened further the Venezuelan economy (Kelly and Palma, 2004).
The deterioration in the political system and the deepening political crisis, coupled with low
oil prices, led to more economic problems under president Caldera, who took office in 1994.
Just as the new government came to power, a financial crisis erupted in January 1994 with the
bankruptcy of one of the largest banks, the Banco Latino (Kelly and Palma, 2004). With many
financial institutions affected, there was large capital flight despite the central bank
implementing very restrictive monetary policy. This situation forced the authorities to
introduce new exchange controls with a unique fixed exchange rate in July 1994 (Palma,
2011). The severe foreign exchange restrictions (foreign exchange transactions outside the
official market were illegalised) and high interest rates had a negative impact on investment
and production, leading to shortages, which contributed to rapidly accelerating prices.
Moreover, since the end of 1995, the pressures from the depreciating black market rate led to
the formation of expectations of devaluation in the official exchange rate with firms
increasing prices as they expected their future replacement costs to rise (Palma, 2008).
Thus, in the face of growing real exchange rate overvaluation (Figure 2), the authorities
decided to adjust the fixed exchange rate in December 1995 by devaluing the currency from
170 Bs/$ to 290 Bs/$, which led to an increase in the annualised inflation rate from 72 percent
in October 1995 to 150 percent in January 1996 (Palma, 2008). A further large devaluation
was carried out in April 1996 before the exchange rate controls were scraped in July and
replaced by a crawling band system.
15
Table 2: Exchange rate systems in Venezuela, 1964-2017
Period Exchange rate system Capital controls
1964 – 1983 Fixed exchange rate, free convertibility
1983 – 1989 Exchange controls with multiple exchange rates X
1989 – 1994 Floating exchange rate (1992-1994, unofficial
crawling peg), free convertibility
1994 – 1996 Exchange controls with single fixed exchange rate X
1996 – 2002 Crawling band, free convertibility
2002 – 2003 Floating exchange rate, free convertibility
2003 - present Exchange controls with multiple exchange rates X
Source: Based on Palma (2008), author’s presentation
The overall effects of the liberalisation period in Venezuela left labour’s bargaining power
considerably weakened. The rate of unionisation fell from 26.4 percent of the workforce in
1988 to only 13.5 percent in 1995, while the rate of informality increased from the average of
39.5 percent of the non-agricultural labour force in 1980-1990 to the average of 48.5 percent
in the 1994-1995 period (Di John, 2005). According to Di John (2005, p.9), the fragmentation
of Venezuelan politics and growing informalisation of employment contributed to “de-
institutionalisation of conflict mediation capacity in the Venezuelan polity” because it
weakened the social bases of support for the political parties.
3.4Fromthepoliticalunrestandeconomiccollapsetotemporaryeconomicboom(1999-2008)Following two decades of erratic economic policies, which failed to address the structural
problems of the economy and merely postponed the dramatic adjustments that contributed to
declining living standards, growing inequality and poverty, corruption and a deteriorating
political system, it does not come as a surprise that Venezuelans were looking for a change in
how their country was managed. According to Lampa (2016), the rise of Chavism can be
partly explained by the negative and violent social reactions to Pérez’s neoliberal adjustments.
After a campaign full of anti-political and anti-neoliberal rhetoric, Hugo Chávez was elected
president at the end of 1998 and took office in 1999.
The new administration continued the exchange policy of the crawling band, which had been
in place since 1996, with an aim of using the exchange rate as a nominal anchor to keep the
inflation under control (Palma, 2008). The policy was successful in bringing down the
inflation rate, which fell from 23.6 percent in 1999 to 12.5 in 2001 (Table 3). However, the
16
global recession that started in September 2001, as well as an increase in the oil production by
the non-OPEC countries meant that the price of oil started falling again at the beginning of
2002. At the same time, the growing political uncertainty in Venezuela (discussed below)
caused an increase in the demand for dollars as agents started buying foreign currency as a
protection mechanism in case of a looming economic and political crisis (Palma, 2008). The
Central Bank of Venezuela (Banco Central de Venezuela, BCV) responded to the speculative
currency attack by selling dollars to satisfy the demand and by implementing a restrictive
monetary policy (the lending rate increased from 21.1 percent in February 2001 to 53.6
percent in February 2002). However, the situation became unsustainable as the central bank’s
international reserves contracted rapidly (they fell from $21.2 billion in January 2001 to $16.7
billion in January 2002) and the defence of the crawling band system had to be abandoned. It
was replaced in February 2002 by the single floating exchange rate with free convertibility.
The first few years of Chávez’s presidency were marked by a rise in political turmoil,
institutional uncertainty and capital flight (Vera, 2015). The adoption of new constitution in
1999, strengthening presidential powers and promoting transformative economic policies, was
met with vehement opposition from business elites, but also from trade unions, which were
closely linked with the old political regime and the AD (Acción Democrática) party, now in
opposition. The antagonism to the proposed radical transformation of the Venezuelan
economy led to a general strike in December 2001, which culminated in a failed coup attempt
in April 2002 (Lampa, 2016). Another wave of strikes between late 2002 and early 2003
paralysed oil production for a few months, which had catastrophic consequences for the
economy. The GDP fell by 25 percent in the first trimester of 2003 with many businesses
going bankrupt (also a result of the very restrictive monetary policy since 2002) and the
situation of labour worsening further (the unemployment reached over 18 percent and the rate
of informal employment increased to 55 percent) (Kelly and Palma, 2004). The adverse
economic and political circumstances led to a massive capital flight, bringing about a large
depreciation (the value of bolivar fell by 47 percent between December 2002 and January
2003) and a decline in international reserves (Kelly and Palma, 2004). As a result, foreign
exchange controls were established followed by price controls for basic consumption goods,
which set some of the prices at below cost levels, forcing certain producers out of business
and reducing market power of the affected firms.6
6 According to the Gaceta Oficial Nº 37.626 , a decree introducing price controls affected the producers of 45 basic necessity goods (mainly foodstuff) and providers of 7 services.
17
The foreign exchange controls with a single official fixed exchange rate were implemented in
February 2003 and a Commission for Foreign Currency Administration (Comisión de
Administración de Divisas or CADIVI) was established to manage it. All foreign currency
earned from exports or from any other source, such as tourism or remittances, had to be sold
to the central bank at the official exchange rate, while obtaining the foreign currency at the
official exchange rate for imports or servicing of private debt was limited and subject to
approval by the commission (Palma, 2008). In addition, a parallel market was created in order
to satisfy growing demand for foreign currency where the exchange rate was determined by
the law of supply and demand. The foreign currency could be obtained in this parallel market
by exchanging bolivar-denominated securities for dollar-denominated bonds, which were later
sold in the international markets (Palma, 2016). The parallel market remained an important
source of legally available foreign currency until it was illegalised in 2010.
The uncertainty, political instability of 2002 and 2003, along with the introduction of
exchange and price controls seem to have negatively affected the market power of firms. The
restricted allocation of dollars meant that many importers and firms that relied on imports of
materials and capital for their production had to use the parallel market to obtain the foreign
currency, which implied an important increase in their costs. The retailers’ profit margins
suffered considerably due to a fall in sales and price controls, as they were not able pass over
onto consumers the higher costs that they had to pay to their suppliers (the wholesale price
index was rising faster than the consumer price index (Palma, 2008). Workers’ bargaining
power, already weakened following the neoliberal adjustments in the previous decade, was
also negatively affected by high rates of unemployment (it increased from 13.4 percent in
2001 to 18.2 percent in 2003), which translated into a fall in real wages as the increases in
nominal wages that workers were able to negotiate were far below the average consumer
inflation rates in 2002 and 2003.
Table 3: Nominal wage growth and inflation (%), 1999-2008
1999 2000 2001 2002 2003 2004 2005 2006 2007 2008
Public sector 14.8 31.8 36.9 5.1 5.3 37.7 26.6 29.6 23.4 27.6
Private sector 28.7 18.0 15.2 9.6 9.6 17.0 16.2 15.1 19.4 23.7
General 25.5 20.9 20.2 8.4 8.5 22.0 19.1 19.3 20.7 25.0 CPI (average prices) 23.6 16.2 12.5 22.4 31.1 21.7 16.0 13.7 18.7 30.4
Note: CPI refers to consumer price index
Source: Venezuelan Central Bank (2015) and IMF (2016)
18
Thus, the currency depreciation in 2002 and an increase in the cost of imported goods
following the introduction of exchange controls as well as high costs of financing (restrictive
monetary policy was introduced in 2002) jeopardised the distributional arrangement that
existed between profits and wages. This led to a fall in real wages and the wage share (it
decreased from 38.2 in 2001 to 33.3 in 2003), and contributed to accelerating inflation, which
reached 31.1 percent in 2003, as compared to 12.5 percent in 2001.
According to Vera (2015), following the political turmoil of 2002-2003, the commodity boom
and increasing state control of the oil rent enabled Chávez’s government to pursue an
economic regime based on the prominent role of the state in the economy. The regime was
characterised by going beyond market mechanisms in their regulation of production and
distribution of certain goods and services, which included the adoption of alternative
ownership structures and control over the means of production as well as the expropriation of
strategically important industries. In addition, more discretionary powers replaced the
traditional institutions governing oil revenues, which allowed for a large expansion of
domestic demand. The demand-oriented strategy pursued by the government was based on
two pillars: an increase in fiscal spending on social programmes and a real exchange rate
appreciation. The social spending as a share of GDP (including the spending by the state-
owned oil company PDVSA7) increased from 8.2 percent in 1998 to 20.9 in 2006 (Weisbrot
and Sandoval, 2007). As for the second pillar, Lampa (2016) points out that the strategy of
keeping the currency appreciated and thus making the imports cheaper was a necessary
condition for the implementation of the demand-led economic growth given the structure of
consumption in Venezuela, which largely depends on imports. The combination of an
expansion in aggregate demand and a real exchange rate appreciation (Figure 2) led to a
massive increase in the volume of imports, from $8.3 billion in 2003 to $45.1 billion in 2008.
Allowing imports to grow so dramatically required careful consideration of external and
internal balances as well as sizeable stock of international reserves in case of a decline in oil
revenues (Lampa, 2016). The Venezuelan government managed to achieve all these
objectives between 2004 and 2008 by running a large current account surplus, reducing its
public debt and increasing its stock of foreign reserves.
The combination of a spectacular rise in oil prices and large fiscal spending funded by oil
windfalls resulted in an impressive 5-year average (2004-2008) real GDP growth of 10.5
7 PDVSA’s (Petróleos de Venezuela) social spending in 2006 amounted to 7.3 percent of the GDP (Weisbrot and Sandoval, 2007).
19
percent. Consequently, the unemployment rate fell from 18.2 percent (2003) to 7.4 percent
(2008). Social and inequality indicators also improved: the poverty rate fell to 27.5 percent
compared with 55.1 percent in 2003, while the Gini coefficient decreased from 0.48 (2003) to
0.41 (2008). Moreover, the inflation rate declined considerably between 2003 and 20078 even
though real wages grew in this period (Table 3), which suggests that the aspiration gap
between workers and firms diminished as firms accepted lower mark-ups during the economic
boom years (assuming that the productivity growth was lower than the real wage growth).
However, such economic expansion could only last as long as oil prices remained elevated.
Lack of industrial policies9 that would diversify local productive capacity and continued weak
private investment (according to World Bank data, the share of private sector gross fixed
capital formation in GDP was only 9.8 percent in 2008) contributed to a further increase in oil
dependency. In this context, domestic growth was increasingly constrained by world demand
for oil. Thus, when the global financial and economic crisis started in the second half of 2008,
leading to a fall in demand and oil prices, the Venezuelan economy was severely impacted
and all policy efforts had to be redirected to deal with the threat of external and fiscal crises
(Vera, 2015).
3.5Economicroller-coaster(2009-2012)
3.5.1ExternalconstraintandexchangerateadjustmentsAs the oil prices plummeted, falling from $129 per barrel in July 2008 to only $31 per barrel
in December 2008 (Palma, 2008), Venezuela’s GDP contracted, driven primarily by the
reduction in exports and investment (Table 4). In addition, the government slowed down its
fiscal expenditure, which had increased only by 1.5 percent, in order to maintain fiscal
balance as the oil revenues fell by almost 40 percent in 2009 (Vera, 2015) and the current
account surplus almost disappeared, falling from 10.8 percent of GDP in 2008 to only 0.2
percent in 2009.
8 The inflation rate increased in 2008 to 30.4 percent due to partial price liberalisation at the end of 2007 (Palma, 2011). 9 According to Vera (2011), Chávez’s administration left the industrial policies in limbo and did not undertake any important initiatives to reverse the process of premature deindustrialisation that has been taking place in Venezuela since the late 1980s. In fact, between 1999 and 2007 the growth of manufacturing GDP was the worst during the last 40 years (Vera, 2009).
20
Table 4: Rate of growth of GDP and demand components, 2007-2014
2007 2008 2009 2010 2011 2012 2013 2014 GDP growth rate (%) 8.75 5.28 -3.20 -1.49 4.18 5.63 1.34 -3.89 Growth rate (%):
Consumption 16.89 6.32 -2.92 -1.87 4.02 7.02 4.72 -3.36 Gov. Expenditure 13.75 4.78 1.54 2.14 5.92 6.26 3.34 0.64
Investment 28.16 2.19 -19.08 1.04 15.19 24.06 -13.95 -
22.92 Exports -7.55 -0.98 -13.68 -12.88 4.66 1.59 -6.17 -4.66
Imports 33.01 1.36 -19.56 -2.89 15.39 24.40 -9.69 -
18.53
Source: Venezuelan Central Bank (2015), author’s calculations
In the face of the economic crisis, the central bank adjusted the interest rates downwards and
prompted credit allocation for manufacturing in order to stimulate economic activity. On the
other hand, instead of allowing the currency to float and absorb the economic shock, the
Venezuelan authorities decided to reduce the allocation of foreign exchange for import
payments in order to maintain the fixed parity (Vera, 2015). This led to a significant decrease
in imports (-19.6 percent) and had a negative impact on the local production, which is heavily
dependent on imports of intermediate inputs and capital goods. As a result, the economic
activity slowed down, despite expansive monetary policy, contributing to a reduction in the
inflation rate (from 31 percent in 2008 to 25 percent in 2009).
Despite some recovery in oil prices in 2010, the recession persisted mainly because of the
continued fall in exports (due to low world demand) and domestic consumption, as well as
due to the lack of expansive fiscal policy (Table 4). The considerable loss of foreign reserves
and a significant drop in the terms of trade in 2009 forced the authorities to finally adjust the
exchange rate in January 2010 (for the first time since 2005) by introducing a two-tier
exchange rate system. The exchange rate of 2.6 BsF (bolivar fuerte10) per US dollar devalued
from 2.15 BsF/$ and was reserved for the imports of selected products, such as food, drugs,
machinery and equipment, while the new rate of 4.3 BsF/$ was to be used for other imports.
In addition, in June 2010, the authorities introduced another type of exchange rate equal to 5.3
BsF/$ reserved for non-urgent imports, which had to be authorised by the newly created
commission called SITME (Sistema de Transacciones con Títulos en Moneda Extranjera)
(Lampa, 2016). SITME effectively replaced the parallel market, which became illegal in May
10 The bolivar (Bs) was revalued in January 2008 and it was renamed the bolivar fuerte (BsF). The revaluation was the at the ratio of 1 to 1000 so that 1000 bolivar became equal 1 bolivar fuerte and the dollar exchange rate changed from 2,150 Bs/$ to 2.15BsF/$.
21
2010. While it operated by exchanging securities and thus was similar to the parallel market,
the rate at which the exchange could take place was fixed and access to the system was
restricted (Palma, 2016).
In January 2011, the official exchange rate (CENCOEX) was effectively devaluated when the
dual exchange system was eliminated and the official exchange rate became unified to 4.3
BsF/$. At the same time, the SITME exchange rate (5.3 BsF/$) was maintained. The economy
recovered (GDP growth was 4.2 percent in 2011 and 5.6 percent in 2012), however, it was
mainly due to the improvement in oil prices and not to the devaluation strategy (Lampa,
2016). The increase in the value of oil exports allowed the government to increase its
spending, and at the same time the investment saw a significant upturn growing 15 and 24
percent in 2011 and 2012 respectively with imports growing at the exact same pace as
investment (Table 4).
According to Vera (2015), the political cycle played a key role in the economic recovery
during 2011 and 2012, as Chávez was preparing to run for the third term in office. The
devaluation enabled the government to lessen the fiscal gap since it was now receiving more
local currency for the same amount of dollars it earned in exports (Vera, 2015). This allowed
for an increase in total public spending as percentage of GDP from 22.9 percent in 2010 to
26.4 and 28.4 percent in 2011 and 2012 respectively (Vera, 2015). Massive fiscal expansion,
which focused on spending on housing infrastructure and a number of social programmes
directed at Chávez’s core electoral base, comprised mainly of low-income households,
consolidated the economic growth and enabled Chávez to win the elections.
3.5.2GrowingdistributiveconflictIn the second half of 2012, the external constraint became apparent again as the current
account surplus fell to 0.8 percent of GDP and a drastic rationing of foreign exchange
allocations to the private sector had started (Vera, 2015). While between 2010 and 2012 the
inflation rate was higher than the depreciation rate in the parallel exchange market, by the end
of 2012, the sharp increase in the rate of depreciation, driven by the decrease in the allocation
of foreign exchange, capital flight and expectations of devaluation in the official exchange
rate, seem to have been the main driver behind the acceleration in inflation rates.
22
Table 5: Nominal wage growth, exchange rate devaluation and inflation (%), 2010-2016
2010 2011 2012 2013 2014 2015 2016
Public Sector 14.3 39.7 30.0 36.4 NA NA NA
Private Sector 26.0 27.8 27.1 30.6 NA NA NA Parallel exchange rate 5.7 2.8 99.0 299.3 153.6 393.9 293.9
CPI (end of period) 27.2 27.6 20.1 56.2 68.5 180.9 720.011
Source: Venezuelan Central Bank (2015), IMF (2016) and Dollar Today (2017), author’s calculations
Figure 5: Nominal exchange rates and inflation, 2010-2014
Note: CPI refers to consumer price index, CENCOEX (Centro Nacional de Comercio Exterior or the National Center for Foreign Commerce) refers to the official exchange rate administered by that government body.
Source: Venezuelan Central Bank (2015) and Dollar Today (2017)
Thus, the inflationary dynamics between 2010 and 2012 appear to have been driven by the
distributive conflict outlined in section 2.1. The growing distributive conflict can be observed
in the increase in labour disputes between 2008 and 2011, which more than quadrupled in that
period from 400 to 1800 per year (The Economist, 2014). Following the dramatic real wage
decreases during the 2002-2003 crisis, workers’ bargaining power seems to have been
growing since 2005, as the wage share was increasing (Figure 6).
11 No inflation statistics has been published by the BCV since the end of 2015. The inflation rate for 2016 is according to the IMF estimates.
0.0100.0200.0300.0400.0500.0600.0700.0800.0900.0
020406080
100120140160180200
06-2010
09-2010
12-2010
03-2011
06-2011
09-2011
12-2011
03-2012
06-2012
09-2012
12-2012
03-2013
06-2013
09-2013
12-2013
03-2014
06-2014
09-2014
12-2014
ParallelDollar CENCOEX CPI(2007=100)right-handscale
23
The relatively low unemployment since 2010 (it fell from 8.5 percent in 2010 to 6.7 percent in
2014) and falling rates of informal sector employment strengthened the bargaining power of
workers who were able to increase their wage share from 32.4 percent in 2010 to 39.1 percent
in 2014 (Figure 6). The increase in the workers’ wage targets can also be explained by the
increase in social spending as a share of public spending, which increased from 58.4 percent
in 2005 to 70.8 percent in 2012, driven almost uniquely by the increase in spending on the
social security (ECLAC, 2016). Higher unemployment benefits strengthened the bargaining
power of labour and hence the workers were able to demand higher wages.
Figure 6: Percentage share of wages in GDP at factor costs (%), 1997-2014
Source : ECLAC (2016), and Venezuelan Central Bank (2015), author’s calculations
At the same time, the output gap12 decreased dramatically since 2003 and even turned positive
during 2008-2009 and then 2012-2014 (Figure 7), which implies very high rates of capacity
utilisation and hence higher market power of firms, which could charge higher prices.
Moreover, the official exchange rate devaluations in 2010 and 2011 and the illegalisation of
parallel exchange markets raised the cost of imported materials and intermediate goods used
in production which had a negative impact on firms’ profitability. It can be argued that
following the increase in costs of production, firms attempted to increase their mark-ups over
wages, and thus reduced the real wages by increasing prices in order to recover profitability,
12 The output gap measures the discrepancy between what is produced and an estimate of the output that could be produced without generating demand pressures on inflation. The concept of the output gap is based on the assumption of the existence of NAIRU (non-accelerating inflation rate unemployment) which states that whenever unemployment is below this unique rate, wage and price inflation will accelerate. However the NAIRU concept is rejected by the post-Keynesians (Lavoie, 2014, Chapter 8). Nonetheless, for the lack of data on capacity utilisation, here the output gap is used as an approximation for the rate of capacity utilisation.
20
25
30
35
40
45
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012
2013
2014
24
which led to an increase in the aspiration gap between workers and firms and contributed to
higher inflation rates. Thus, increasing bargaining power of both firms and workers seem to
explain high rates of inflation that persisted between 2010 and 2012 despite the less restrictive
access to foreign currency and growing imports in that period (Table 4).
Figure 7: Output gap (%), 1997-2016
Source: DataStream (2017)
3.6Towardstransitiontohyperinflation?(2013-present)Venezuela has been struggling with double-digit inflation since the end of the 1970s, however
the inflationary dynamic has been markedly accelerating since 2013. Driven primarily by the
growing devaluation expectations, as the external constraint has been worsening since the end
of 2012, it has increased the gap between the parallel and the official exchange rates and led
to an acceleration in inflation rates. As can be seen in Table 6, the worsening of the external
position, especially since 2015, is mainly due to a more than 50 percent fall in oil prices in
that same year and continued low oil prices in 2016.
In addition to low oil prices, some authors point out the negative effect of capital flight on the
price dynamics. According to Lampa (2016), one of the primary reasons behind growing rates
of inflation has been an unprecedented capital flight since the government loosened controls
on capital and increased regulation of the currency market in 2012 in advance of the
upcoming elections. Since growing capital flight reflects expectations of higher inflation and
higher black market dollar rates in the future, the depreciation of the parallel rate could have
-40
-35
-30
-25
-20
-15
-10
-5
0
5
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016
25
been driven by the expectations of a reduction in foreign currency rationing, and hence
imports, following the 2012 elections. It is possible that firms realised that the 24 percent
increase in imports in 2012 was unsustainable and thus began to hoard dollars and/or convey
capital abroad in anticipation of a devaluation and reduction in foreign currency provisions.
Table 6: Macroeconomic indicators, 2010-2016
2010 2011 2012 2013 2014 2015 2016
Average Oil Price (US$/bl) 71.4 98.2 103.4 99.5 93.7 44.7 35.1
Current Account Balance (Millions of US$)
5,585 16,342 2,586 4,604 3,598 -20,360 -11,205
Current Account Balance (% of GDP)
1.9 4.9 0.8 2.0 1.7 -7.8 -3.4
Net Financial Transfers (Millions of US$) -19,853 -29,453 -14,681 -17,901 -12,691 8,834 NA
Terms of Trade (2000=100) 216 260 262 257 216 125 NA
Inflation, end of period consumer prices (%)
27.2 27.6 20.1 56.2 68.5 180.9 720
Source: Ministry of Energy and Petroleum (2017), IMF (2016), ECLAC (2016) and UNCTAD (2016)
Although it seems that capital flight slowed down since 2011 (Table 6), this statistic does not
account for the illegal capital flight, which in case of Venezuela is known to be one of the
highest in the world. The former president of the Venezuelan Central Bank admitted that in
2012 almost one third of the $59 billion authorised by CADIVI for imports, which was
necessary for productive activities, were in fact embezzled by fake companies (Aporrea,
2013) and that Venezuelan firms systematically over-invoiced their dollar-valued contract
(Lampa, 2016).
Therefore, since the end of 2012 the growing devaluation expectations led to a rapid increase
in the black market value of dollar, which in turn fuelled inflation (Figure 5) as the firms,
expecting devaluation, began to set their prices as if the domestic currency was weaker than
the official exchange rate and thus increased their prices. Moreover, in light of expected
devaluation, commodity hoarding became a common tactic and dollar hoarding became a
more profitable form of saving when compared to the nominal funds rate which was kept very
low despite high inflation rates (Lampa, 2016).
The growing gap between the black market exchange rate and the official exchange rate
eventually induced the authorities to devaluate the bolivar in February 2013. The value of the
nominal exchange rate fell by almost 50 percent (from 4.3 to 6.3 BsF/$), while the SITME
26
exchange rate was eliminated and replaced by an auction-based SICAD (Sistema
Complementario para la Adquisición de Divisas). Following the devaluation, the amount of
authorised foreign currency for imports was reduced as it became more expensive. Given
Venezuela’s dependency on imports for inputs of production (according to BCV (2013), the
share of capital goods and intermediate products in total imports was 84 percent in 2012), a
decrease in imports following inadequate supply of foreign exchange increased the costs of
production, which in turn was passed on to consumers in the form of higher prices (inflation
increased from 20.1 percent to 56.2 percent between 2012 and 2013). In 2014, the supply of
foreign exchange continued to be inadequate, resulting in a large fall in imports (-18.5 percent
in 2014) which had a negative effect on local production and consumption. As a result, the
GDP contracted by -3.9 percent and inflation reached 68.5 percent in 2014.
As the current account deficit reached 7.8 percent of the GDP in 2015, the government
decided to introduce yet again new types of exchange rates. In 2015, a floating rate SIMADI
(Sistema Marginal de Divisas) was introduced where the exchange rate was supposed to float
according to the supply and demand; its initial value was equal to 170 BsF/$, which at the
time was almost the same as the black market rate. As the external situation did not improve
in 2016, and the gap between the parallel dollar rate and the official rate (CENCOEX)
increased to over 10,000 percent (Figure 8), the authorities changed again their exchange rate
system. The official exchange rate used for importing priority products CENCOEX was
replaced by a new exchange rate DIPRO (Sistema de Divisas Protegidas), also to be used only
for priority imports, and whose value was set at 10 BsF/$. At the same time, the SIMADI was
replaced by the DICOM (Sistema de Divisas Complementarias), which is a controlled floating
exchange rate to be used only for certain foreign currency needs, such as foreign travels,
credit card payments and exchanging dollars obtained from exports to bolivars.
27
Figure 8: Nominal exchange rates, 2015-2017
Note: SIMADI (Sistema Marginal de Divisas), DICOM (Sistema de Divisas Complementarias - complementary exchange rate), CENCOEX (Centro Nacional de Comercio Exterior or the National Center for Foreign Commerce), DIPRO (Sistema de Divisas Protegidas – protected exchange rate)
Source: Venezuelan Central Bank (2017) and Dollar Today (2017)
Thus, over the last few years, the government’s strategy to correct the growing external
imbalance has been severe foreign exchange rationing, which has generated significant
shortages in intermediate inputs and consumer goods thus contributing to the output
contraction and to accelerating inflation (Vera, 2016). Moreover, the currency rationing has
been putting increasing pressure on the parallel exchange rate market (Figure 8), whose
“exponential” behaviour during the last few months of 2016 and the beginning of 2017 can
suggest that further official exchange rate devaluations are expected.
At the same time, Venezuela’s international reserves have been declining since 2008, and
according to Vera (2017), by the end of 2012 the country had almost completely depleted the
liquid level of its reserves. In addition, the growing external debt service and debt servicing
ratio to total exports have been raising concerns among international investors and limiting
Venezuela’s access to external financing. Moody’s Investors Service downgraded
Venezuela’s debt at the beginning of 2015 from Caa1 to Caa3 (Vera, 2016) and in March
2016 it changed its outlook from stable to negative. While between 2008 and 2012 the debt
service accounted for 20 percent or less of total exports, its value started to increase rapidly
since 2014 as the oil prices plummeted (Vera, 2017). Moreover, since 2010 the state-own oil
0
500
1000
1500
2000
2500
3000
3500
4000
45002015-02
2015-04
2015-06
2015-08
2015-10
2015-12
2016-02
2016-04
2016-06
2016-08
2016-10
2016-12
2017-02
ParallelDollar SIMADI/DICOM CENCOEX/DIPRO
28
company PDVSA has been responsible for an important part of the external debt. The
growing debt of the oil company is due to the increasing role of the government’s social
spending programmes. According to Vera (2015), the state-owned oil company was used by
the government to finance social development programs, food imports, infrastructural
programs and also presidential campaigns. Moreover, the government has been using the
PDVSA to monetise its budget deficit by borrowing on the bond market using the oil
company via its American subsidiary Citgo Holding, as the latter has access to lower
borrowing rates (Albert and Jude, 2016). Thus, social spending and low oil prices in recent
years have negatively impacted PDVSA’s finances and contributed to underinvestment,
leading to lower production and further worsening of its debt position. At the same time,
PDVSA benefited from a law passed in 2009 that allowed the central bank to purchase the
bonds issued by the oil company, which enabled it to close its financing gap in the domestic
currency (Vera, 2015). According to Vera (2015), this led to an expansion in the monetary
base (Figure 9) and an increase in the liquidity in the Venezuelan economy.
To summarise, the current skyrocketing inflation rates are a result of the balance of payments
problems, which have been troubling Venezuela since the decline in oil prices at the end of
2014. However, the root cause of the current economic ills lies in the years of inadequate
exchange rate policies, which allowed for the bolivar’s excessive appreciation and in turn
prevented the necessary structural changes that would ensure industrial diversification and
decrease the dependency on oil exports. In the face of growing external constraints, current
account deficits and increasing external debt, the authorities introduced foreign currency
rationing, which led to shortages and output contraction and also put pressure on the black
market for exchange as the devaluation expectations augmented. As a result, the Venezuelan
economy has been experiencing a parallel market devaluation-inflation spiral, which threatens
to turn into hyperinflation as the real value of the monetary base has been declining rapidly
since 2015, suggesting a loss of confidence in the national currency (Figure 9).
29
Figure 9: Real value of the monetary base (M2), millions of bolivars, 2007-2016
Source: Venezuelan Central Bank (2015) and IMF (2016), author’s calculations
According to our framework, falling confidence in the national currency should lead to
gradual dollarisation. Although Venezuela has had strict foreign exchange controls since
2003, and the parallel market for foreign currency has been illegal since 2010, it is possible to
observe a certain degree of dollarisation of the economy. Given the high rates of inflation, it
can be assumed that the dollar has taken over the function of a store of value. According to
Lampa (2016), between 1997 and 2011, the government and the PDVSA issued $60 billion
worth of dollar-denominated bonds thus incentivising the dollarisation of savings. Moreover,
in the case of certain goods, the dollar serves de facto the role of the unit of account as the
firms that import goods have their sales catalogues denominated in dollars, which means that
local currency prices fluctuate according to the daily black market exchange rate quotations.
Furthermore, the prices in the black market for goods also vary in accordance with the daily
parallel dollar rate. The situation in Venezuela is thus similar to that of Germany during the
1923 hyperinflation; as it was put by Kaldor (1982, p. 61): “[…] in Germany in September
1923, everything from newspapers to railway tickets and to daily wages was ‘indexed’ to the
daily market price of the US dollar. […] If the dollar remained unchanged for a day, prices
and wages … remained stable for the day”. Thus, the only function of money that the bolivar
is currently serving is the medium of payment. Although Venezuela is presently experiencing
rapidly increasing prices and the confidence in the national currency is falling, hyperinflation
0
500000
1000000
1500000
2000000
2500000
3000000
2007-12
2008-05
2008-10
2009-03
2009-08
2010-01
2010-06
2010-11
2011-04
2011-09
2012-02
2012-07
2012-12
2013-05
2013-10
2014-03
2014-08
2015-01
2015-06
2015-11
2016-04
2016-09
30
is prevented by the institutional settings – exchange controls – which means that a full flight
to foreign currency has not taken place as yet.
4.AssessmentGiven our analysis in section 3, we can propose the following causal sequence:
The above presented sequence for the Venezuelan case is largely in line with the post-
Keynesian theoretical framework presented in section 2, however, certain particularities are
observed. Firstly, no formal indexation mechanisms were introduced in Venezuela and yet the
regime of high inflation was continuously present since the late 1970s. Secondly, the
exchange controls since 2003 led to the growing importance of the parallel exchange market
and since 2012 the changes in the parallel dollar market became more significant than the
changes in the official exchange rate in fuelling the inflation rates as they were reflecting
devaluation expectations. Finally, despite accelerating prices, a full rejection of domestic
currency is not observed (although the confidence in the bolivar is falling) because the
exchange controls are preventing flight to the foreign currency.
31
5.ConclusionsIn this paper we analysed important economic, but also social and political, events that led to
rapidly accelerating inflation rates in Venezuela and tried to establish whether the current high
inflation can be considered hyperinflation from the post-Keynesian theoretical perspective.
We found that high inflation levels in Venezuela since the 1970s can be explained by the
combination of external bottlenecks and distributive conflicts, which are usually sparked by
currency devaluations. The structural dependency on oil revenues, as a source of foreign
currency necessary for imports of intermediate inputs and capital goods for production (as
well as consumption goods), meant that Venezuela has been experiencing accelerating prices
every time production was constrained by the insufficiency of foreign currency and the BOP
constraint was hit. This in turn induced devaluation pressures and led to prices hikes (due to
higher costs), which fuelled the inflation further as workers opposed to falling purchasing
power and demanded higher nominal wages, inciting a devaluation-inflation spiral. While this
dynamic has been present since the 1970s, what sparked the most recent inflationary episode
was the dramatic increase in the parallel exchange rate at the end of 2012, driven by the
devaluation expectations, which eventually determined the devaluations of the official
exchange rate. In addition, an external shock coming from a massive fall in oil prices at the
end of 2014 worsened the external position and fuelled further devaluation expectations,
leading to a rapid increase in the value of the black market rate for dollar. This in turn has
translated into accelerating rates of inflation as the authorities reduced the provision of foreign
currency.
While the confidence in the bolivar has been markedly decreasing since mid-2015, the
currency substitution is prevented by the exchange controls. Although savings are held in
dollars, and for certain goods and black market goods the dollar is used as the unit of account,
the payments are still done in the local currency. Thus, while we can say that to a certain
degree there is a flight to foreign currency, which is a defining feature of hyperinflation, it is
evident that the domestic currency has not been completely rejected. The particularity of
Venezuela’s exchange policy means that classifying the current period of rapidly accelerating
inflation rates as hyperinflation from the post-Keynesian perspective remains ambiguous, as
exchange controls prevent the full substitution of the bolivar with the US dollar. If the
government decides to remove the currency controls or/and let the official exchange rate float,
we could expect a run to the foreign currency and a full substitution of the domestic currency
with the dollar.
32
ReferencesAlbert, M., and Jude, C. (2016): “Venezuela: l’insoutenabilité du modèle de croissance, source
de tous les risques”, Revue d'économie financière, (4), 201-222.
Aporrea (2013) : “Presidenta del BCV: Parte de los $59.000 milliones entregados en 2012 fueron a “emrepsas de maletin” ”, ”, accessed on 25.05.17, available at https://www.aporrea.org/actualidad/n229466.html
Banco Central de Venezuela (BCV) (2013): Informe Económico 2012, Banco Central de Venezuela: Caracas.
Bértola, L., and Ocampo, J. A. (2012): The economic development of Latin America since independence, Oxford University Press: Oxford.
Blecker, R. (2011): “Open economy models of distribution and growth” in E. Hein and E. Stockhammer (eds.), Modern Guide to Keynesian Economics and Economic Policies, Edward Elgar: Cheltenham, pp. 215-39.
Bresser-Pereira, L. C. (2012): “Structuralist macroeconomics and the new developmentalism” Revista de Economia Política, 32(3), 347-366.
Bresser-Pereira, L. C., Oreiro, J. L. and Marconi, N. (2014): “A Theoretical Framework For A Structuralist Development Macroeconomics”. Proceedings of the 41th Brazilian Economics Meeting - Brazilian Association of Graduate Programs in Economics.
Cagan, P. (1956): “The Monetary Dynamics of Hyperinflation” in M. Friedman (ed.), Studies in the Quantity Theory of Money, University of Chicago Press: Chicago, pp. 25–117.
Câmara, A., and Vernengo, M. (2001): “The German Balance of Payment School and the Latin American Neo-Structuralists” in L.P. Rochon and M. Vernengo (eds.), Credit, Interest Rates and the Open Economy, Edward Elgar: Cheltenham, pp. 143–159.
Carvalho, F.J. (1993) “Strato-Inflation and High Inflation: The Brazilian Experience”, Cambridge Journal of Economics, 17 (1), pp. 63–78.
Cassetti, M. (2003): “Bargaining Power, Effective Demand and Technical Progress: a Kaleckian Model of Growth”, Cambridge Journal of Economics, 27, 449-464.
Charles, S. and Marie, J. (2016): “Hyperinflation in a small open economy with a fixed exchange rate: A post Keynesian view”, Journal of Post-Keynesian Economics, 39(3), 1-26.
Charles, S. and Marie, J. (2017): “Bulgaria’s Hyperinflation in 1997: Transition, Banking Fragility, and Foreign Exchange”, Post-Communist Economies (forthcoming)
Diamand, M. (1978): “Towards a change in the economic paradigm through the experience of developing countries”, Journal of Development Economics, 5(1), 19-53.
33
Di John, J. (2005): “The political economy of anti-politics and social polarisation in Venezuela 1998-2004”, Working Paper no. 76, Crisis States Research Centre, London School of Economics.
Frenkel, R. (1979): “Decisiones de precio en alta inflación.” Desarrollo Económico, 19 (75), 291–330.
Guerra, J. (2002): Estudios sobre la inflación en Venezuela. Banco Central de Venezuela: Caracas.
Gutiérrez, L. H., and Labarca, N. (2003): “Determinantes de la inversión privada en Venezuela: Un análisis econométrico para el periodo 1950-2001”, Revista Tendencias, 4(2).
Hausmann, R., and Rodríguez, F. R. (2014): Venezuela Before Chávez: Anatomy of an Economic Collapse, The Pennsylvania State University Press: University Park, Pennsylvania.
Kaldor, N. (1982): The Scourge of Monetarism, Oxford University Press: Oxford.
Kalecki, M. (1962): “A Model of Hyperinflation”, Manchester School of Economics and Social Studies, 30, 275–281.
Kelly, J., and Palma, P. A. (2004): “The syndrome of economic decline and the quest for change” in J. L. McCoy, and D. J. Myers (eds.) The Unraveling of Representative Democracy in Venezuela, Johns Hopkins University Press: Baltimore, pp. 202-230.
Lampa, R. (2016): “Crisis in Venezuela, or the Bolivarian Dilemma: To Revolutionize or to Perish? A Kaleckian Interpretation”, Review of Radical Political Economics, 1-21.
Lander, E. (1996): “The impact of neoliberal adjustment in Venezuela, 1989-1993”, Latin American Perspectives, 23(3), 50-73.
Lander, E. (2006): Neoliberalismo, sociedad civil y democracia: ensayos sobre América Latina y Venezuela, Universidad Central de Venezuela Consejo de Desarollo Cientifico y Humanistico: Caracas.
Lavoie, M. (2014): Post-Keynesian Economics: New Foundations, Edward Elgar: Cheltenham.
Manzano, O. (2014): “Venezuela After a Century of Oil Exploitation” in R. Hausmann and F.R. Rodriguez (eds.) in Venezuela Before Chávez: Anatomy of an Economic Collapse, The Pennsylvania State University Press: University Park, Pennsylvania, pp. 51-90.
Marie, J. (2014): “Hyperinflation argentine de 1989 une interprétation post-keynésienne”, Revue de la régulation [Online], 15, accessed on 18.10.16, available at: http://regulation.revues.org/10794
Orléan, A. (2007): “Crise de la souveraineté et crise de la monnaie: l’hyperinflation allemande des années 1920”, in B. Théret (ed.) La monnaie dévoilée par ses crises, Éditions de l’EHESS : Paris, pp. 187-229.
34
Ortiz, I. (1987): “Determinantes de la inflación en Venezuela: 1960–1980”, Economía, 12 (1), 67-106.
Palma, P. A. (2008): “La política cambiaria en Venezuela”, in Veinticinco Años de Pensamiento Económico Venezolano, Academia Nacional de Ciencias Económicas: Caracas, pp. 463-532.
Palma, P. A. (2011): “Riesgos y consecuencias de las economías rentistas: El caso de Venezuela”, Problemas del desarrollo, 42(165), 35-59.
Palma, P. A. (2016) : "LA INFLACIÓN EN VENEZUELA: SUS CAUSAS Y CORRECCIÓN." Debates IESA 21, no. 1:10-14. Business Source Complete, EBSCOhost (accessed March 28, 2017).
Portillo, S. (2004): Guía rápida de la política económica en Venezuela: 1974-2003, Departamento de Modelos Económicos, Banco Central de Venezuela: Caracas.
Puente, M. J., Gómez, P., and Vera L.(2010) : "LA PRODUCTIVIDAD PERDIDA." Debates IESA 15, no. 1: 66-69. Business Source Complete, EBSCOhost (accessed March 28, 2017).
Rowthorn, R. (1977): “Conflict, Inflation and Money”, Cambridge Journal of Economics, 1, 215-229.
Setterfield, M. (2007): “The Rise, Decline and Rise of Incomes Policies in the US during the Post-War Era: an Institutional-Analytical Explanation of Inflation and the Functional Distribution of Income”, Journal of Institutional Economics, 3,127-146.
Susjan, A., and Lah, M. (1997): “Inflation in the Transition Economies: the post-Keynesian view”, Review of Political Economy, 9(4), 381-393.
The Economist (2014): “Venezuela’s labour market: Labour’s lost love”, accessed on 25.05.17, available at: http://www.economist.com/news/americas/21594997-regime-has-contrived-make-both-bosses-and-workers-unhappy-labours-love-lost
Thirlwall, A. P. (1979): “The balance of payments constraint as an explanation of the international growth rate differences”, PSL Quarterly Review, 32(128).
Vera, L. (2009): “Cambio estructural, desindustrialización y pérdidas de productividad: evidencia para Venezuela”, Revista Cuadernos del Cendes, ańo 26 (71), 89-115.
Vera, L. (2011): “Paradojas de la desindustrialización¿ Hay evidencia de la Tercera Ley de Kaldor para Venezuela?”, Nueva Economía, 33, 89-107.
Vera, L. (2015): Venezuela 1999–2014: Macro-Policy, Oil Governance and Economic Performance, Comparative Economic Studies, 57(3), 539-568.
Vera, L. (2017): “In search of stabilization and recovery: macro policy and reforms in Venezuela, Journal of Post Keynesian Economics, 1-18
35
Weisbrot, M., and Sandoval, L.(2007): “The Venezuelan economy in the Chávez years”, Center for Economic and Policy Research, July 2007.
36
DataSourcesDataStream (2017): Thomson Reuters Datastream [Online] (Accessed: March 2017)
Dollar Today (2017): Histórico Dólar paralelo en Venezuela (Accessed: March 2017), available at: https://dolartoday.com/historico-dolar/
Economic Commission for Latin America and Caribbean (ECLAC) (2016): CEPALSTAT (Accessed: March 2017), available at: http://estadisticas.cepal.org/cepalstat/WEB_CEPALSTAT/estadisticasIndicadores.asp?idioma=i
International Monetary Fund (IMF) (2016): World Economic Outlook Database October 2016 Edition, (Accessed: March 2017), available at: https://www.imf.org/external/pubs/ft/weo/2017/01/weodata/index.aspx
Ministry of Energy and Petroleum (2017): Precios del Petróleo 1998-2017, (Accessed: March 2017), available at: http://www.mpetromin.gob.ve/portalmenpet/secciones.php?option=view&idS=45
United Nations Conference on Trade and Development (UNCTAD) (2016) : UNCTADStat (Accessed: March 2017), available at: http://unctadstat.unctad.org/wds/TableViewer/tableView.aspx?ReportId=16421
Venezuelan Central Bank (2015): Banco Central de Venezuela: Informacion Estadistica, (Accessed: March 2017), available at: http://www.bcv.org.ve/c2/indicadores.asp
Venezuelan Central Bank (2017): Banco Central de Venezuela: Tipos de Cambio de Referencia, (Accessed: March 2017) available at: http://www.bcv.org.ve/cuadros/2/212a.asp?id=64
Imprint Editors: Sigrid Betzelt Trevor Evans Eckhard Hein Hansjörg Herr Birgit Mahnkopf Christina Teipen Achim Truger Markus Wissen ISSN 1869-6406 Printed by HWR Berlin Berlin October 2017
Recommended
